Parent Student Loans – Which options to select

Your child has made their college decision and now you need to understand which parent student loans are the best options for your situation.  With the rising cost of education many parents are not prepared for this tremendous investment.  Understanding the various loan options, legal responsibility of each loan type and the various repayment options are all important in making the best decision.

Direct Federal Student Loans

So how can parents finance college tuition? In most cases, the student federal loan options are the first choices that a parent can employ.   This would include the Perkins and Stafford loan programs.  The student federal loans have the lowest interest and the better loan repayment options at graduation.   In addition, they are the legal responsibility of the student and not the parent.   If you do not have the money to pay for all four years, you should take these loans beginning freshmen year since there is a loan limit amount available to the student per year.

After the federal student loans have been fully utilized, the other alternatives become a little more difficult to determine.  You need to understand the risk of each loan types and the cost of money associated with each option.  It is not a simple process.

Direct Federal Parent Plus

For many the Parent Plus loans are a logical choice and are part of the federal student loan program.  The interest rates for these loans are fixed but change each year based on the current market rate.  The change occurs every July 1 and is based on the yield of the last 10-year Treasury auction in May.  The Federal Parent Plus loan interest rate for 2013-2014 is 6.41%.  There are origination fees of just over 4 %.

Parent Plus Loans are the only federal student loan that has a credit requirement.  In the past year, the credit requirement has become more stringent.  This means that the government can deny an applicant for this loan based on their credit score.  Some of the reasons for denial are due to bankruptcy, foreclosure, repossessions, tax liens, wage garnishments or a write-off of a student loan in the past five years.  If denied the student will qualify for additional Stafford loans.

The Parent PLUS has a limit on the amount that you can borrow.  The limit is determined by the cost of attendance of the college minus the financial aid package from that the school.   One other problem with the Parent Plus loan is that the borrower is not eligible to repay this loan through any of income-based repayment program.

The one advantage of the federal student loans is the free death and disability coverage that comes with the federal loans.  This is not available with the other student loan options.

Private Student Loans

Another source of financing is Private Student Loans.  These loans are in the name of the student and will need a co-signer.  The interest rate is normally variable and based on the credit score of the co-signer.   These loans are available through banks or other non-government sources that provide loans for educational financing.

The co-signer, normally the parent, needs to do their research.  Each private loan has its own origination fee, ways of calculating the interest and release for the co-signer from the loan after repayment starts.  The co-signer needs to realize that a missed payment or default will carry over to their credit score unlike the federal student loans.

Another problem that can occur with the private loans is if the cosigner dies or declares bankruptcy.   The borrower could face an “auto default” event even if payments had been paid timely in the past.   This means that the borrower may be forced to repay the full loan balance. If they are unable to repay the balance, future credit could be ruined.   This auto default may be written into your loan so make sure you read your form before you sign for the loan. There are other co-signer releases that can be obtained but you will need to research these options.

Other Personal Loans

Families may also consider using a personal private loan, a home equity loan or a loan from their company retirement account.  You need to fully understand the additional risks associated with these types of loans.  Each of them has advantages and different types of risk.

As an example, if you borrow money from your company retirement account and are laid off or decide to change jobs, you will need to repay that money within 60 days to avoid the outstanding balance being reported as income.  It would then raise your EFC the following year.

Student Loan Summary 

As you can see, it is not an easy decision figuring out how to finance a college education.  The most important aspect to remember is how much total debt is going to occur over the four plus years and who is legally responsible for the repayment.  Each of the options listed able have advantages and disadvantages.  Weigh the risk of each solution and understand how this decision will affect your overall financial future.

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